Microfinance Investment Vehicles An Emerging Asset Class

Transcription

1 The Rating Agency for Microfinance MFInsights Microfinance Investment Vehicles An Emerging Asset Class November 26

2 MICROFINANCE INVESTMENT VEHICLES A REVIEW BACKGROUND The Emerging Microfinance Investment Vehicle Market Funding of microfinance institutions ( MFIs ) by private foreign investors 11 is at last coming into its own. But foreign funds rarely flow directly to MFIs. During the last few years a new type of intermediary has evolved, that mobilizes funds from investors in rich countries and channels them to MFIs in the developing world. Popularly known as Microfinance Funds, entities that raise money and channel it to microfinance institutions (MFIs) are only rarely Funds in a legal sense. They are therefore collectively referred to as Microfinance Investment Vehicles (MIVs). These microfinance investment vehicles ( MIVs ) are the subject of this review. The most striking feature of MIVs is their explosive growth. In 25 alone, their combined microfinance portfolios have nearly doubled, reaching $1 billion by the end of the year. All indications are that growth is continuing at a similar pace during 26. The engine driving this growth is of course the expansion of MFIs themselves and their ever-increasing hunger for funding. The sample of Latin American MFIs tracked by MicroRate, for instance, expanded at an annual compound rate of 4% over the last five years. Gradually, and somewhat haltingly, microfinance is evolving into an asset class. Nonetheless, the MIV sector is still emerging. One symptom of this is that it is still virtually impossible for investors to compare the performance of MIVs; there are no objective performance data. Unless this information vacuum is filled, it could well become a serious obstacle to future growth of the sector. In many respects the situation of today s MIVs is reminiscent of the situation MFIs faced a decade ago. At the time, MFIs were beginning the transition from donor funded charities to commercially funded financial intermediaries. Yet, little information was available that would have allowed investors to measure their performance. Indeed like the MIV sector today - in 1996 the microfinance industry had not even developed performance indicators that would make measurement possible. Then, just as now, the absence of objective performance data posed a threat to future growth. Without them, investors cannot measure risk, which in turn makes rational investment decisions and pricing virtually impossible. MicroRate s mission is to create the kind of transparency that will make commercial funding flow. It performed that mission by pioneering ratings of microfinance institutions. Despite initial skepticism, the concept caught on and today MFI ratings have become a standard feature in microfinance. In 25 alone, nearly 3 MFIs were rated by MicroRate and others. MFI ratings have become a standard tool that informs investors about the strengths and weaknesses of MFIs. As private funding began to flow, it became clear that investors need more than ratings of MFIs. Investors in the US or Europe don t know enough about, say, Bolivia, Botswana or Bosnia to lend directly to MFIs in such countries. A new kind of vehicle was needed that knows how to operate in the countries where MFIs are located. In response to that need, the MIV emerged, which raises funds from investors and channels them to MFIs. The rise of MIVs created an information challenge similar to the one MicroRate faced ten years ago when it began rating MFIs: again, there are a bewildering number of institutions we counted 55 of them as of

3 December 25 - again investors are facing an information vacuum with no standardized measures or benchmarks. Survey Methodology MicroRate conducted two questionnaires to begin to fill the information vacuum and understand the information needs of investors. The first questionnaire ( Round 1 ) measured the size of the MIV universe and supplied a broad overview of the MIV market as a whole. 54 MIVs provided data (See Annex 1 Round 1 Survey). The second questionnaire (Round 2) focused on 14 investor oriented MIVs that play a significant role in the sector. The Round 2 questionnaire was developed with extensive input from Patrick Goodman, an expert in MIV surveys. RESULTS & FINDINGS MIV Market Survey The initial findings revealed that, at the end of 25 the total assets of the 54 MIVs responding to the Round 1 questionnaire amounted to $1.45 billion, a 47% increase since the last MIV survey in The 54 MIVs had invested $981 million in microfinance a 91% increase over 24. The composition of the microfinance portfolio was 76% debt, 23% equity and 1% guarantees.(number 3) 3 Additionally, the growth in MIVs has been remarkable, with 34 of the 55 beginning operations after 2 and 16 launching in 25 alone. The MIVs impressive growth rates have been driven by active distribution (e.g. responsability), financial innovation (e.g. BlueOrchard) and high involvement from International Financial Institutions (IFIs) and the private sector. Economies of scale are appearing with 13 funds having total assets of greater than $2 million. The fastest growing MIVs tend to be the largest and over 7% of the growth in total assets comes from just 6 MIVs (Procredit Holding, EFSE, Oikocredit, BlueOrchard MF Securities, Dexia MicroCredit Fund and Calvert Communities Investment Notes.) 6 MIV Universe Growth 1,6 MIV Universe Growth USD Millions $1, ,4 1,2 1, 8 6 $16 $513 91% $ Cumulative # of MIVs 4 2 CGAP/KfW 24 MIV Universe MicroRate 25 MIV Universe Total Assets Microfinance Portfolio 2

4 MIV Microfinance Portfolio Geographic Investment Analysis Round 2 Asia 12% MIV Microfinance Portfolio Equity & Debt Analysis Round 1 Eastern Europe 17% 1% 23% Africa 8% Other Regions 7% Latin America & Caribbean 56% 76% Equity Debt Guarantees A striking feature of the MIV sector, in addition to its surprising growth, is its diversity. MIVs come in a large number of shapes and sizes. Only a small minority are funds in the narrow sense of the word. Others are specialized investment vehicles like Collateralized Debt Obligations (CDOs), cooperatives, finance companies, special accounts established as part of larger development entities, holding companies, etc. The dominant impression is one of confusion. This is a new industry that has not settled on preferred legal or organizational forms. Nor are there yet industry-wide performance measures or standards. Indicators, benchmarks, and investor guidelines have not been established. It is little wonder, then, that investors are bewildered. While analyzing the data, considerable effort was made to understand the key measures of MIVs. The process proved a challenge because of the variety of shapes and sizes of the MIVs and the ways in which they measure themselves. Throughout the process MicroRate collaborated with CGAP in order to produce a Reporting and Performance Measurement Guide for MIVs ( Reporting and Performance Measurement for Microfinance Investment Vehicles ). This guide will be a public document intended to assist investors and MIVs. Round 2 Survey - 14 MIVs The detailed findings of Round 2 reveal that the 14 MIVs MIV Name Microfinance Total Assets are growing at a torrid pace. Their total assets grew by an Portfolio (USD Millions) (USD Millions) annual average of 35% from 23 to 25 while their Oikocredit microfinance portfolios grew 76% annually during the Blue Orchard MF same period. The increase in the proportion of Dexia MC microfinance investments to total assets shows that MIVs responsability GMF are maturing and that they are becoming better at placing Calvert their resources in MFIs. Interestingly, the highest growth Lacif rates were experienced by those MIVs which had Asn-Novib developed mechanisms to reach retail investors. Growth MicroVest was led by the responsability fund with an astonishing Triodos Fair Share % growth rate in 25, followed by the ASN NOVIB Accion IM fund and Blue Orchard Microfinance Securities with 122% Impulse and 114% growth respectively. Alterfin Incofin Global Partnerships 2 2 Not surprisingly, the more commercial MIVs tend to invest in debt. Equity investments are still seen as comparatively risky and exits from equity can be difficult. As the debt market becomes more competitive and the equity market becomes more transparent with real 3

5 exit alternatives, a secondary market will develop and commercial MIVs will become more important players in equity as well. Geographically, MIV microfinance portfolios are heavily concentrated in Latin America. As competition for top tier MFI investments increases MIVs are beginning to look to other markets such as Eastern Europe and Central Asia. Africa remains under-served by MIVs. TRENDS & IMPLICATIONS Changing Funding Sources Funding Hardens as MIVs Grow The growth of microfinance over the last decade has been remarkable, but it has still penetrated only a MIV Portfolio Growth to 21 4 relatively small part of its potential market. Given 3 the demand, rapid growth will continue. Today s 25 $25B flow of funds through MIVs is still only a small 2 fraction of what it could, and one day will be. As MFI demand for funding increases worldwide from 15 $16B tens of billions to the hundreds of billions of dollars, 1 international funding flows through MIVs will also grow. MFIs will exhaust the donor and 5 $5B philanthropic money that they have depended on in $1B the past. They will have to seek new funds from deeper wells. Even if MIV market growth tapered from its current rate of 91% to the MicroRate Latin Assumed Growth Rates 4% 75% 91% American MFI Index growth rate of 4%, 44 the total microfinance portfolio would reach $5 billion in 21. If current growth rates continue, the total microfinance portfolio could reach anywhere from $16 to $25 billion. USD Billions MIV Growth by Funding Source Concessionary Public Commercial $25B Clearly, actual growth rates will vary, but it is equally clear that the MIVs will have to mobilize very large amounts of capital. In the early days MIVs obtained their funding nearly entirely from donors. In the last five years or so, International Financial Institutions (IFIs) and investors willing to give on concessionary terms became the dominant funding source for many MIVs. More recently MIVs have turned to commercial funds. The CDOs (Collateralized Debt Obligations) issued since 24 bear testimony to this progressive hardening of the terms at which MIVs fund themselves. MicroRate believes that this shift to more commercial funding sources will continue and even accelerate. So far investors have often been microfinance enthusiasts. For many of them, it was enough to know that their money would go to microfinance and that they would recover their principal. If in addition they earned a small return as well, that was welcome news, but it was not a decisive factor. Development MIVs cater to this market. The largest MIV (Oikocredit), for example, caps returns to investors at 2%. Other MIVs have similar restrictions. But the pool of enthusiast investors is not large enough to meet future MIV funding requirements. As MIVs grow and multiply, they have to deal with social investors seeking real double bottom 4

6 line returns and eventually with true commercial investors. This is already visible in the CDOs, which are aimed at a more commercial public. To attract investors, CDOs pay relatively high interest and protect senior lenders through a large cushion of subordinated funding. As MIVs outgrow the pool of enthusiast investors, the present lack of transparency in the 25 Shift from Concessionary to Hard Funding MIV sector is making itself felt. Investors $1 Billion Capital Markets 2 even socially responsible ones want to be able to compare performance and to judge MIVs 15 based on their track records. If this information 1 is not available, they will turn to the Concessionary innumerable investment alternatives that are Funding 5 vying for their money. The shift from philanthropic to purely commercial investors does not only mean that the cost of borrowing rises; it also affects information requirements, especially regarding risk and return. Sooner rather than later, investors will expect the same amount and quality of information on MIVs that they are used to from other investment opportunities. Only at this point will microfinance be considered an asset class. MIV Portfolio Value Microfinance is in rapid transition to becoming capital-markets based. Capital-market funding itself, which originally started out mainly with philanthropic support ( socially responsible investors ) is beginning to approach the status of a mainstream investment opportunity. A recent report commissioned by the World Economic Forum 5 5concludes that this transition from philanthropic capital to financial investment is a particularly unusual and even anomalous event in the history of capital markets. The transition holds unprecedented promise in that it will tap the vast resources of the markets, but it also presents large dangers if significant new blended value investments turn out to be founded on poor due diligence or faulty risk management. A few imprudent investments could set back the transition by years. MicroRate s review of MIVs revealed a rapidly evolving industry coupled with the early signs of over-enthusiasm for microfinance. The exposure and excitement generated by Professor Yunus Nobel Peace Prize has done nothing to cool down the situation. In such an atmosphere it is increasingly likely that bad investment decisions will be made. 1 In this review the term investor is used for both lenders & equity investors. 2 The 24 CGAP/KfW survey, which identified 43 MIVs, was carried out by Patrick Goodman. It mostly measured assets and microfinance investments as of December 24. However, some MIVs reported numbers for June and March 23, which makes an exact comparison difficult. 3 The equity & debt composition is heavily influenced by ProCredit Holdings AG. If that vehicle is removed, debt, equity & guarantees would compose 85%, 14% and 1% of the aggregate MIV Microfinance Portfolio, respectively. 4 Growth rates reflect the growth of the MIV Universe from 24 to 25 of 91%, a slightly more conservative rate of 75% reflecting the 3 year average growth rate of the Round 2 MIVs and a rate of 4% that corresponds to the five year average growth rate in the MicroRate Latin American MFI Index from 21 to Blended Value Investing: Capital Opportunities for Social and Environmental Impact. World Economic Forum, March 26. 5